It seems this was purchased when DEFRA was what was regulating taxability of life insurance policies. This is what I could find about DEFRA:
Congress Act 2: The Deficit Reduction Act (DEFRA) of 1984
The Deficit Reduction Act (DEFRA) of 1984 coordinated with language laid out in TEFRA from two years before to establish specific rules about what life insurance was and what life insurance was not.
More specifically, upon DEFRA's passage, we now had specific limitations on premium size relative to an outstanding death benefit that qualified or disqualified a life insurance contract as life insurance.
It's easiest to think of these limitations as tests in the sense that failing the tests means the premium amount is outside the allowable limit, and the limit is a function of the size of the death benefit.
There are actually two tests, the Cash Value Accumulation Test (CVAT) and the Guideline Premium Test (GPT).
The Cash Value Accumulation Test (CVAT)
The CVAT was established mostly to handle how whole life insurance policies qualified as life insurance. The test is rather straightforward in the sense that it merely tests the level of cash that can exist inside a life insurance policy relative to the outstanding death benefit.
So long as this line is not crossed, the policy in question passes the test and is a life insurance contract.
Guideline Premium Test (GPT)
The GPT was established mostly to handle how universal life insurance policies qualified as life insurance (though universal life insurance can qualify as life insurance using the CVAT as well).
The test has two specific parts.
Step One is an amount of premium that a policyholder is allowed to pay into the policy relative to the death benefit.
For example, if the policy has a $1 million death benefit and the calculated guideline premium is $20,000 each year, the policyholder can place no more than $20,000 into the policy in any given year.
However…there are some exceptions…
There's an allowance for both a one-time payment and an ongoing annual payment. If the policyholder chooses to make the one-time payment, that would be all the premium he/she would be allowed to pay towards the policy.
Step Two is a ratio of cash value to the outstanding death benefit that decreases as the insured gets older. This is sometimes referred to as the corridor and why GPT is sometimes known as the corridor test.
What Happens If You Fail the Test?
Failing the test to qualify as life insurance means that policy is no longer considered life insurance. Instead, U.S. Tax Law treats the contract as if it were a taxable account much like a general brokerage account or savings account.
Any gain in the policy becomes immediately taxable as ordinary income. The earnings in the policy each year are taxable in that year just like a standard savings account or CD.
Death benefit proceeds are only income tax-free to the beneficiary for the portion paid to the beneficiary that represents raw death benefit. Lastly, because the contract no longer qualifies as life insurance, the policyholder cannot choose to transfer the funds in the policy to another life insurance policy through a tax-favorable 1035 exchange.
These rules sought to severely diminish the use (some would say abuse) of life insurance solely as a tax shelter, and they did a pretty good job of minimizing this behavior. But these rules didn't entirely stop the practice, and Congress felt compelled to act one last time.
From what my dad relayed to me from the insurance agent, I could put in $1100 this year and $950 in future years, so it's not really going to make a huge difference in increasing the cash value, but it's a good interest rate "tax deferred", and I don't need this $$ any time soon. I'll probably have to get an illustration and understand how much of this is going to cost of insurance.
I wonder, though, if the guaranteed interest rate on this thing really is 4.5%, would it make sense to overfund a policy, accept that the contract is now a "taxable account" per DEFRA, and pay taxes on it, because you can't can't 4.5% anywhere else? I'm assuming that if you pay the tax as you go, you're not going to also get taxed on that portion when you inevitably surrender the policy.
I found that most insurers do not allow extra premiums that violate DEFRA because of the admin costs of issuing 1099s etc, so that's probably not an option.